Why would anyone want to be in the oil business? Like airlines, it’s a great industry but a bad business. Here are the most obvious challenges to its business model:
- Oil companies are extremely capital-intensive; they can’t charge a high enough price to pay for Arctic oil because to deliver energy at a given rate takes more capital investment than photovoltaics do.
- They have decadal lead times and high technological, geological, and political risks.
- National oil companies own about 94 percent of global reserves and can take or tax away the major oil companies’ remaining 6 percent at any time, holding their most basic assets and expected profits at risk.
- Resource owners force major oil companies into riskier and costlier plays even as investors demand lower risks and higher returns.
- The industry is politically fraught, unpopular, interfered with, and reputationally damaged by its worst actors.
- Its service companies (like Schlumberger and Halliburton) and the national oil companies are becoming formidable competitors.
- Its permanent subsidies are coming under greater scrutiny and criticism.
- It must sell its products at world oil prices that are highly volatile and beyond its control.
- Much of the reserve base underlying its market valuation is unburnable for climate reasons, potentially wiping trillions off balance sheets.
- The costly Arctic, deep-sea, and otherwise remote reserves that until a year ago got half the new investments by the biggest oil companies are also economically stranded assets — at least four times costlier than demand-side competitors and increasingly challenged even by some supply-side competitors.
What a recipe for headaches! No wonder savvy investors are starting to shift their money into assets with rapid growth, wide benefit, solid public acceptance and even enthusiasm, modest risk, and durable value. Energy efficiency and renewables lead the pack. Increasingly they poach investment, momentum, and people from major companies’ deep talent pools. Even my own nonprofit organization’s CEO is a ten-year Shell veteran.
Yet I think these widely recognized challenges are easier to handle than others the industry is only just starting to realize. Having advised oil companies for 42 years, I’m worried that many don’t yet grasp how their competitive landscape is being transformed far faster than their cultures can comprehend or cope with.
Most importantly, their demand is going away — not incrementally but fundamentally. Like whale oil in the 1850s, oil is becoming uncompetitive even at low prices before it becomes unavailable even at high prices. U.S. gasoline (and electricity) demand has been falling since 2007 as more people drive thriftier vehicles fewer miles; the same is true in rich countries as a whole. Now major developing countries like China are shifting their energy strategy so quickly toward efficiency and renewables that global “peak oil” — in demand, not supply — could occur in this decade, not many decades in the future as the industry assumes.
Over decades, oil reserves unburnable for climate reasons could well be smaller than reserves unsellable for competitive reasons: oil companies are even more at risk from market competition than from climate regulation. They can run their supply-side supertanker into the giant iceberg of energy efficiency and sink without even knowing what they hit. It wasn’t on their chart because they weren’t properly tracking it, let alone exploiting it. If their costly deep-sea and Arctic projects go upside-down at $90 a barrel and their whole business swoons at $50, how will they do at, say, $25, which is what it costs to get a greatly expanded U.S. transportation system completely off oil, or at $18 and falling, or what it costs to save a barrel by making well-designed automobiles that need no oil? What if oil companies’ biggest challenge weren’t falling price but vanishing demand?
That’s not hypothetical. In 1975, the U.S. government and captains of industry all insisted that the energy needed to make a dollar of GDP could never go down. A year later I heretically suggested it could drop by 72 percent in 50 years. So far it’s dropped by 54 percent in the first 39 years — partly through shifts in the structure of the economy, but more because we used smarter technologies to wring far more work from our energy.
Yet my team found in 2011 that far more powerful technologies and design methods, enlightened regulation, and maturing financing, marketing, and delivery channels then available could save nearly twice what I originally thought, at one-third the real cost. We showed how the U.S. could run a 2.6-times bigger economy in 2050 with no oil, coal, or nuclear power, $5 trillion cheaper, with no new inventions nor Acts of Congress, led by business for profit. Now, four years later, many of those assumptions look conservative.
Most of the cubic mile of oil the world burns each year provides mobility. Yet four-to-eight-times more efficient carbon-fiber electric cars are already on the market from BMW and VW, with more on the way. New ways to manufacture carbon-fiber structures can make autos two or three times lighter but safe, at roughly the same cost, because the carbon fiber is paid for by simpler automaking and fewer batteries or fuel cells. “Feebates” — rebates for efficient new autos, paid for by fees on inefficient ones — can raise electric vehicles’ market share tenfold. Add tripled-efficiency heavy trucks and three-to-five-times more efficient airplanes, and the U.S. can save $0.9 trillion in net-present-valued cost by 2050 — all sped by the military revolution in fuel-frugal planes, ships, and land vehicles. Leveraging savings in the civilian oil use that’s over 50 times larger, those innovations will ultimately displace our warfighters’ missions in the Persian Gulf and South China Sea — aka Mission Unnecessary.
Meanwhile, Gen X and Gen Y often don’t even want to own a car, because it’s cheaper and easier not to. Smartphone apps can seamlessly combine many different modes, including ubiquitous on-demand mobility services, to offer a better experience at roughly $11,000 per year lower cost than owning a car that sits idle 95 percent of the time.
Next, emerging driverless autos will cut energy cost per mile 90 percent and total cost 40 percent — the next step in the mobility/IT mashup that will gravely disrupt both auto and oil companies. Autos are pivoting from PIGS — Personal Internal-combustion-engine Gasoline Steel-dominated vehicles — to SEALS — Shared Electrified Autonomous Lightweight Service vehicles. The U.S. can also get the same or better access to where we want to be, with 46 to 84 percent less driving, at lower societal cost and higher developer profits, by combining smart growth, IT-mobility integration, and charging real-time driving costs per mile, not per gallon. And new policies that treat autos without favoritism and design cities around people instead of autos are spreading rapidly in China and other developing countries to achieve cleaner air, vibrant commerce, rich social interactions, happier residents, and far lower total cost and risk.
Oil companies’ shift toward natural gas won’t save them, because gas isn’t sufficiently different. It too has volatile prices, and resolving all eight of fracking’s main risks would require great luck. So fracking creates an important story about abundant and affordable energy for the long term — but that story is less about gas than about its physical hedges, efficiency and renewables, that are outpacing and outcompeting it.
Oil-company leaders generally think it will take over a half century to replace their extraordinary infrastructure. They forget that the pace of transformation is set not by incumbents but by insurgents, who may not need their infrastructure (think electric cars) and are uninhibited by their business models and legacy assets — physical or psychological. Actually, incumbents have even less time than insurgents grant them, because capital flees before customers do. Capital markets, moving at the speed of Twitter, keenly sniff out the scent of disruption. If they think you’re in or headed for the toaster, they don’t wait for the toast to get done before they decapitalize you and invest in your successors. This is already happening to the oil and electricity sectors — yet many don’t even realize it.
Stanford innovation lecturer Tony Seba reminds us of disruption’s brutal speed by comparing two photos looking down New York’s Fifth Avenue in the Easter Parade. In 1900, you must look hard to find the first car. In 1913, you must look harder to find the last horse. The horse-and-buggy industry thought it had many decades to adapt. Henry Ford thought differently, and won.
Today’s technologies move much faster — reinforced by even more disruptive forces like new business and financial models and breakthrough design methods, all stirred vigorously with IT. These new axes of transformation all reinforce and accelerate each other. They don’t add; they multiply or exponentiate in a yeasty mix with crowdfunding and crowdsourcing, innovative public policies and development patterns, shifting tastes and values, and Silicon Valley culture. No oil company moves that fast.
The oil industry has unique and important skills and assets. I hope those that society may need later will survive the coming shakeout. But it’s hard for cultures good at a few big complex projects to get good at doing many small projects instead; to put their hearts into options that many of their people don’t really believe in; and to shift rapidly to the utterly unfamiliar. Customers don’t care. They increasingly realize they’ll get better services (mobility, hot showers, cold beer, and so on) by buying radically less (or no) fuel, using it far more productively, and even producing and trading home-grown energy like solar power. It’s generally a smart strategy to sell customers what they want before someone else does. All the rest is detail.
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